Parametric Insurance: Benefits and Features

Most insurance coverages pay the claim amount only after damage has occurred, and often it takes weeks or months to receive it. Fortunately, now there is a faster alternative that offers immediate payouts when specific pre-agreed triggers, such as a certain level of rainfall or earthquake magnitude, are met. This model is known as parametric insurance.

Let’s understand how parametric insurance coverage works, its features, benefits and how it differs from traditional insurance.

What is parametric insurance?

The most basic parametric insurance definition is that it reimburses the policyholder for the event instead of the actual loss or damage. It provides a fast and large amount when a pre-determined trigger or ‘a parameter’ takes place.

Let’s give you a parametric insurance example: If rainfall in your area drops below 50mm during the monsoon season, your parametric insurance policy will automatically payout. You don’t have to prove to the insurer how much crops have been damaged or what the total financial loss is.

How parametric insurance works?

The parametric insurance meaning will make sense to you when you understand its key components and the actual process.

The model has two main components:

1. A triggering event: Must meet three criteria - trigger must be unexpected, must be accurately tracked and reported and must be possible to predict.
2. The payout mechanism: Even if there’s no actual physical damage, if the specific index crosses the set limit, the amount is given.

The process has four steps:

1. The need: The specific event for which protection is required, such as an earthquake, flood, or cyclone, is identified. This event serves as the basis for the insurance cover.
2. The coverage: Clear parameters are set by picking a trusted data source (the meteorological department). The payout amount is set up front.
3. Monitoring: The data sources track the parameters in real-time. For example, when a cyclone hits, they check if the wind speed and location match the policy terms.
4. Automatic payout: If the data shows the triggers were met, the insurance provider directly transfers the money to the policyholder within a few days or weeks.

Benefits of parametric insurance

Parametric insurance offers several advantages for consumers. Payouts are typically received within 7-30 days of the trigger event, providing quick access to emergency funds. Unlike traditional insurance, there is no need to submit damage reports, claim forms or repair estimates.

The payout amount and timing are fixed and transparent, so there are no surprises. Consumers can customise the coverage by selecting the event and trigger parameters based on their location or business needs.

Additionally, parametric insurance can cover events that are often excluded from conventional policies, such as unusual weather patterns or droughts.

Features of parametric insurance

Here are some key features of parametric insurance:

• Measurable triggers: Claims are based on indisputable data points, such as temperature readings, rainfall measurements and seismic activities, instead of damage assessments.
• Automatic settlements: Computer systems monitor triggers and initiate payments when thresholds are met.
• Transparent: Data-driven claim settlement reduces human biases and ensures fairness.
• No survey needed: Unlike traditional claim registration, the insured doesn’t have to prove loss or damage or wait for investigations.
• Accurate data verification: Notable third-party data sources, such as satellites and IoT sensors, are used to reduce the risk of fraud.

Traditional insurance vs parametric insurance

Here are the differences between parametric and traditional insurance:

Why is parametric insurance becoming more important?

Global warming is a major factor that has increased the frequency and severity of extreme weather conditions across India. Parametric insurance bridges coverage gaps for farmers and businesses facing losses from events like crop damage due to erratic weather or low wind generation.

Conclusion

Parametric insurance could be a practical and affordable solution for businesses and individuals dealing with unpredictable weather changes. It effectively covers the indirect and delayed impacts of all natural disasters.

However, this model does not cover all risks. For complete protection against perils beyond natural disasters, especially for securing your personal belongings, home insurance coverage will be helpful.

FAQs

1. Can I combine parametric insurance with home insurance?

Yes, you can purchase both types of coverages for similar or the same asset. Parametric insurance can complement home insurance by providing immediate cash flow.

2. What happens if the data sources fail to provide information?

Insurance companies use multiple independent data sources to verify triggers. So even if a primary data source fails, alternative sources help process the claim.

3. Who should buy parametric insurance?

Farmers, small businesses, municipalities and anyone exposed to risks like floods, droughts, storms or earthquakes.

Disclaimer: The information provided in this blog is for educational and informational purposes only. It may contain outdated data and information regarding the topic featured in the article. It is advised to verify the currency and relevance of the data and information before taking any major steps. ICICI Lombard is not liable for any inaccuracies or consequences resulting from the use of this outdated information.